Can Purdue Create a “Public” University Controlled by Investors?

Purdue, a public university in Indiana, wants to open a new online college to serve needy students—those who pay for school largely using student loans, mostly from the federal government. To manage most of the operations of the new college, Purdue is contracting with Graham Holdings Company (GHC), a for-profit company that currently runs Kaplan University, a 32,000-student online school that Purdue’s new college would absorb.

While Purdue president Mitch Daniels has been outspoken in moving forward with this plan, serious questions remain about whether a public university can properly pursue its mission when it signs over so much responsibility to a for-profit company.

If this proposed marriage of public and for-profit sounds more than a little sketchy, it’s because it is.

If this proposed marriage of public and for-profit sounds more than a little sketchy, it’s because it is. The details of the deal are particularly perplexing when you consider that Daniels, in signing on to the deal, has violated his own cardinal rules from when he was Indiana’s governor: do your due diligence, don’t give up the driver’s seat, and never sign a contract you can’t get out of.

When he became governor in 2005, after serving as President George W. Bush’s first budget chief, Daniels inherited a $700 million budget hole. Over his first term, he brought fiscal discipline to the state, in part by “bringing private solutions to bear on public needs,” as he phrased it in his 2011 book, Keeping the Republic: Saving America by Trusting Americans. Outsourcing didn’t always work out, but as he points out, when private contractors proved inadequate, even despite the due diligence in their original selection, he could always get rid of them. His example was an IBM-led effort to revamp the state’s welfare system: it looked good on paper, but it didn’t work out in practice.

It was a “big ‘oops,’” says Daniels. But ultimately, his reform effort was successful, because he was not stuck with IBM as the contractor. He continues, “We fired the company,” and moved quickly to “replace the vendor with one who performed far better.”

In Daniels’ latest outsourcing deal, however, Purdue has handed over too much power to a vendor that cannot be fired (without a huge cost to taxpayers), leaving students and taxpayers alike vulnerable, if GHC resumes its past practices.

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Lending Purdue’s Name to a Company with a Troubled History

Graham Holdings Company, the vendor Daniels has chosen to run Purdue’s online venture, is led by chairman Don Graham, the former publisher of the Washington Post, a position he held after inheriting the company from his mother, the renowned Katharine Graham. Years ago, the Washington Post Company purchased and grew Kaplan’s education businesses, which include Kaplan University, as a way to subsidize its newspaper operations. Graham sold the newspaper to Amazon CEO Jeff Bezos in 2013, while GHC retained the education businesses.

Graham has issued at least one “oops” of his own. A 2009 U.S. Senate investigation found that Kaplan was using a strategy the company called “fear, uncertainty and doubt” to create a sense of urgency to get prospective students to enroll immediately instead of thinking it over. “In a particularly telling slide,” the investigators found, “the presentation tells recruiters that addressing students’ fears is much more important than addressing their needs.” Recruiting tactics captured on undercover recordings were characterized as “among the worst,” as were the school’s withdrawal and loan default rates.

Graham himself said in 2011, “Shame on us. We shouldn’t have been recruiting students that way,” in a Washington Post feature story. (His contrition later faded. In a 2015 commentary, Graham lists the virtues of Kaplan while blaming the industry’s bad reputation on others: “Some for-profit colleges have behaved disgracefully to their students; I do not defend them.”)

Daniels insists he scoured GHC’s background and found the company “highly ethical,” having sold off some of the schools where the abuses occurred. But data released since the Senate report show a serious problem with several programs at Kaplan University, the online division that is set to become part of Purdue: far more former students end up defaulting on their loans than earning degrees. Moreover, during a meeting last month in which Daniels defended the Kaplan deal to concerned faculty members, he emphasized Kaplan’s clean slate: “they have not been sued in 10 years,” he said at least three times. But in that time, there have been more than a dozen lawsuits (see below).

Kaplan University Lawsuits

Since 2007, at least 12 lawsuits have been filed against Kaplan University, alleging unlawful termination, sexual harassment, religious discrimination, false advertising, high-pressure sales tactics, and falsification of documents. There have also been at least 20 additional lawsuits that name other entities owned by Graham Holdings Corporation, of which Kaplan University is a subsidiary. Materials relating to these cases can be located on the Public Access to Court Electronic Records database. The following are the cases in which Kaplan University is named as a defendant:

Andy Rosen, a key GHC executive, recently said he was tired of Kaplan being viewed through the “dirty window” of the for-profit-college industry, and that the Purdue deal will allow GHC to shed the reputational baggage associated with being a for-profit college. That might be possible, but only if GHC’s financial incentives—in which the company can profit by shortchanging students—were eliminated. But this scheme with Purdue will instead permit the company to lay claim to running a “public” university—all while continuing to reap the financial benefits of a for-profit company.

The For-Profit’s Ongoing Power Over Purdue

Purdue’s “acquisition” of Kaplan University might have been a good development for education—if it meant bringing Kaplan’s operations under Purdue’s governance. Ever since the GI Bill, investor-owned schools have repeatedly disappointed students and taxpayers, because it is simply too easy for bad actors to over-promise and under-deliver on a product that is as difficult to measure as education. A for-profit school can be good, but all too often, those that earn strong reputations paradoxically become the most hazardous. With the virtually unlimited flow of federal student loans available, the temptation for a for-profit school to capitalize on its success—in ways that almost invariably prove disastrous—becomes irresistible to executives or hungry shareholders who focus on share price instead of educational value. Placing a school such as Kaplan under a nonprofit or public control structure would eliminate direct ownership control, and hopefully prevent the worst for-profit excesses. And, as Daniel’s said in the days after the proposal was announced, skeptics of the for-profit industry “should be celebrating…there will be one less of these dreaded for-profit universities out there.”

The deal between Purdue and GHC is not a vendor contract, but rather a joint-operating agreement.

But in speaking out about the deal, Daniels has ignored the fact that, according to the terms of the agreement, Purdue is not really in control. What Daniels and Graham have worked out is not at all like the IBM deal that Daniels was able to scrap when it didn’t work out. The deal between Purdue and GHC is not a vendor contract, but rather a joint-operating agreement. Purdue could have bought Kaplan University outright, without giving GHC a governance role in a public institution. But to be able to claim the deal is not costing Indiana taxpayers, Daniels had to guarantee future profits and control to GHC.

When I first raised concerns about GHC’s ongoing control, Daniels categorically denied it, labeling my claim with a bold “False” on a Powerpoint slide. He was so insistent that I was wrong, I thought I must have misread the agreement. After seeking some expertise on ownership transfers and contracts, I saw where I was wrong: the contract actually gives GHC even more control than I had thought.

First, there is the ransom clause, requiring Purdue to pay GHC any time the Purdue-appointed trustees make policy changes that GHC believes will hurt its profitability as a company (see below).

Under the ransom clause, Purdue must pay GHC if Purdue makes any policy changes that GHC believes will reduce its profits. Source: Graham Holdings Company.

A major selling point of the deal, according to some experts, is that Purdue will be well-positioned to improve the academic standards of online education by operating one of the largest distance learning platforms in a way that—as Daniels says—”lives up to standards we’ve always held ourselves to.” Purdue will be able to “offer a visible ‘no excuses’ demonstration of how academic standards can be raised at institutions like Kaplan,” writes Arthur Levine, former president of Columbia University Teachers College.

Because of the ransom clause, however, Purdue is not free to make substantial changes to academic standards.1 Doing so would affect the number and type of students who are recruited and enrolled, the programs they are steered to, the amount of interaction with faculty, the types of assignments and grading standards, and the additional support students need—all of which would affect GHC’s profitability, giving the company the power to say no unless Purdue pays.

And what if Purdue wanted to reduce tuition? Access for the poor is a primary reason Daniels cites for this deal. Most nonprofit schools invest more than half of their tuition revenue in actual faculty instruction of students; Kaplan invests as little as one-seventh, according to federal data. If Purdue actually owned Kaplan, it could dramatically improve the value proposition for students by slashing tuition, rejecting the usual for-profit strategy of pricing programs so that the school can capture the maximize amount of student loans. But because of the ransom clause, Purdue can’t change its pricing in ways that undermine GHC’s profits.

The ransom clause will constrain every policy decision that Purdue might consider. And for decisions that do not rise to the level of policy, there is another problematic provision in the contract, the consensus clause (see two provisions, below). It places operational control of the college in a committee of Purdue and GHC representatives, requiring them to bring consensus recommendations to the trustees. The trustees can override their recommendations only by exception.

The new online college will be run by consensus among public and for-profit representatives, which means each side has veto power unless the veto is overridden by special determination of the trustees. Source: Graham Holdings Company.

Trapped in a Contract That Never Ends

A contract that gives too much control to the vendor might not be a big problem if Purdue could learn from the lesson and then move on, as Daniels did as governor when he dropped IBM as a contractor. But the lengthy, thirty-year duration of Purdue’s contract with GHC is a concern faculty members brought up in a meeting with Daniels last month.

At the meeting with Purdue faculty, Daniels pooh-poohed the thirty year duration: “So what?” The contract “has an ‘out’ in five years . . . with an opportunity to renew.” But actually, there is no easy “out” in five years—or ever. The contract actually has no end date, no point at which Purdue will own its online college free and clear. It is difficult to even support the claim that Purdue is “acquiring” Kaplan University, as advertised in the public relations splash. The contract does establish a purchase price that Purdue can pay later if it ever wants to actually buy and control the college on its own—but unless it pays that price, it is stuck with the joint operating agreement.

The price to Purdue of breaking up with GHC is very high. Remember that $700 million deficit that Daniels, as governor of Indiana, took four years to erase? That amount, as it happens, is near how much it would cost for Purdue to divorce itself from GHC, based on today’s figures. After the thirty-year initial term of the contract, the escape fee would be an estimated $425 million in today’s dollars.2

The secrecy, the headlong rush, the hype, the carefully orchestrated political momentum, the defensiveness—it’s very worrisome. It’s certainly not the manner in which public institutions should operate when making bets with taxpayer dollars, and Mitch Daniels should recognize the path he is on. As he said in his 2011 book: “One of the words people in public life find hard to say is oops. In my view, pretending that all is well when it plainly is not is another way to disrespect the judgment and maturity of our fellow citizens.”

Notes

Purdue officials tell us that it will take “several weeks” to process our request for a copy of the Policy Guide referenced in the contract, but have told InsideHigherEd that the document will be withheld as a “trade secret.” The guide does include admissions and progress (“student advancement”) standards (see 3.2(c)(vii)), and the incoming chancellor of the new college has said that the contract does not call for any immediate changes in classes, faculty, degree paths offered or pricing structures.

The contract requires a payment of 1.25 times the total revenue from the most recent twelve-month period; Kaplan’s higher education revenue in 2016 was $567 million, which puts the buy-out cost at $697 million. Presumably revenue will increase in the future as a result of the Purdue partnership, meaning that a buy-out will only get more expensive (it is allowed after year six). In order to end the relationship after the initial thirty-year term, the agreement says that Purdue would have to pay Kaplan six times the “Contributor Fee,” which is defined in a document that has not been publicly released. It is likely a measure of profits/earnings (similar to EBITDA). If earnings are 12.5 percent, then the escape fee for Purdue would be 75 percent of revenue, which today would be $425 million. That figure is likely to grow as Purdue expands online offerings.